Robust FDI Determinants: Bayesian Model Averaging In The Presence Of Selection Bias

The literature on Foreign Direct Investment (FDI) determinants is remarkably diverse in terms of competing theories and empirical results. We utilize Bayesian Model Averaging (BMA) to resolve the model uncertainty that surrounds the validity of the competing FDI theories. Since the structure of existing FDI data is known to induce selection bias, we extend BMA theory to HeckitBMA to address model uncertainty in the presence of selection bias. We then show that more than half of the previously suggested FDI determinants are no longer robust and highlight theories that receive support from the data. In addition, our selection approach allows us to highlight that the determinants of margins of FDI (intensive and extensive) differ profoundly in the data, while FDI theories do not usually model this aspect explicitly.

One Money, One Market: A Revised Benchmark

The introduction of the euro generated substantial interest in measuring the impact of currency unions (CUs) on trade flows. Rose’s (2000) initial estimates suggested a tripling of trade and created a literature in search of “more reasonable” CU effects. A recent meta-analysis of this literature shows that subsequent papers quantify CU trade impacts at 30–90 percent. However, most recent studies use shorter time series and fewer countries than Rose in his original work. We revisit Rose’s original benchmark, extend the dataset, and address Baldwin’s (2006) critiques of gravity implementation in large panels by simultaneously accounting for multilateral resistance and unobserved bilateral heterogeneity. This produces a robust average CU trade effect of 45 percent. Yet, the trade impacts of individual CUs vary substantially and are generally lower than those of preferential trade agreements (PTAs). Our revised benchmark can be used as a yardstick for future studies to delineate how estimates differ due to new data or differences in econometric specifications.

In Search of WTO Trade Effects: Preferential Trade Agreements Promote Trade Strongly, But Unevenly

The literature measuring the impact of Preferential Trade Agreements (PTA) and WTO membership on trade flows has produced remarkably diverse results. Rose’s (2004) seminal paper reports a range of specifications that show no WTO effects, but Subramanian and Wei (2007) contend that he does not fully control for multilateral resistance (which could bias WTO estimates). Subramanian and Wei (2007) address multilateral resistance comprehensively to report strong WTO trade effects for industrialized countries but do not account for unobserved bilateral heterogeneity (which could inflate WTO estimates). We unify these two approaches by accounting for both multilateral resistance and unobserved bilateral heterogeneity, while also allowing for individual trade effects of PTAs. WTO effects vanish and remain robustly insignificant once multilateral resistance, unobserved bilateral heterogeneity, and individual PTA effects are introduced. The result is robust to the use of alternative definitions and coding conventions for WTO membership that have been employed by Rose (2004), Tomz et al. (2007), or by Subramanian and Wei’s (2007).

Institutions and Growth: Time Series Evidence from Natural Experiments

Documenting the long term impact of institutions on economic performance has generated tremendous interest in the development literature. Contemporary or intermediate term effects of institutions over time are difficult to establish, however, since institutions seldom change significantly in the short run. In addition, accepted instruments that control for endogeneity of institutions in cross sections are inappropriate for time series analysis. In this paper we utilize an eleven year panel of 26 countries with sufficient institutional variation to identify large and significant short and intermediate effects of institutions. To control for endogeneity, we utilize the hierarchy of institutions hypothesis and find that it holds strong explanatory power. A 10 percent change in institutional quality towards OECD standards is shown to raise annual growth by 3.5 percent. In discriminating between short run and intermediate term effects, we can also document that early reformers reap the greatest benefits, but that it is never too late to begin institutional reform. *We thank Sascha Becker, Christa Heinz, Stephan Klasen, Chris Papageorgiou, Charles Nelson, Richard Startz, Farid Toubal, Steve Turnovsky, and especially John Temple for helpful comments. Any remaining errors are our own. Theo Eicher thanks the German Science Foundation for financial support. …i

Endogenous Strength of Intellectual Property Rights

In recent empirical work, institutions have been shown to explain a significant share of the differences in cross-country accumulation, productivity, and output levels. The key institution that determines sustained development in R&D based growth models is the strength of intellectual property rights, which have thus far been assumed to be exogenous. In this paper we endogenize the strength of the intellectual property rights institutions to study how incentives to protect and exploit property rights affect economic growth. Our model explains endogenous differences in the strength of intellectual property rights across countries and highlights development thresholds that are related to the quality of such property rights. We show that market size is a crucial determinant of the existence and high quality of such institutions. In addition we find that the endogenous determination of the strength of intellectual property rights generates multiple equilibria and an institutional development threshold that must be overcome if an economy is to have strong institutions and rapid growth in the long run. This result is in line with the observed transition of early/small economic communities with common property laws to mature nation states with large institution-based societies.€+•